The Weak Instrument Problem of the System GMM Estimator in Dynamic Panel Data Models

Tinbergen Institute Discussion Paper 09-086/4

49 Pages Posted: 10 Oct 2009

See all articles by Maurice J. G. Bun

Maurice J. G. Bun

University of Amsterdam (UVA) - Department of Quantitative Economics; Tinbergen Institute

Frank Windmeijer

University of Bristol - Department of Economics; University of Bristol - Leverhulme Centre for Market and Public Organisation (CMPO); Institute for Fiscal Studies (IFS) - Centre for Microdata Methods and Practice

Multiple version iconThere are 2 versions of this paper

Date Written: July 31, 2009

Abstract

The system GMM estimator for dynamic panel data models combines moment conditions for the model in first differences with moment conditions for the model in levels. It has been shown to improve on the GMM estimator in the first differenced model in terms of bias and root mean squared error. However, we show in this paper that in the covariance stationary panel data AR(1) model the expected values of the concentration parameters in the differenced and levels equations for the cross section at time t are the same when the variances of the individual heterogeneity and idiosyncratic errors are the same. This indicates a weak instrument problem also for the equation in levels. We show that the 2SLS biases relative to that of the OLS biases are then similar for the equations in differences and levels, as are the size distortions of the Wald tests. These results are shown to extend to the panel data GMM estimators.

Keywords: Dynamic Panel Data, System GMM, Weak Instruments

JEL Classification: C12, C13, C23

Suggested Citation

Bun, Maurice J. G. and Windmeijer, Frank, The Weak Instrument Problem of the System GMM Estimator in Dynamic Panel Data Models (July 31, 2009). Tinbergen Institute Discussion Paper 09-086/4, Available at SSRN: https://ssrn.com/abstract=1486048 or http://dx.doi.org/10.2139/ssrn.1486048

Maurice J. G. Bun (Contact Author)

University of Amsterdam (UVA) - Department of Quantitative Economics ( email )

Roetersstraat 11
1018 WB Amsterdam
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+31-20-5254257 (Phone)

Tinbergen Institute ( email )

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Rotterdam, 3062 PA
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Frank Windmeijer

University of Bristol - Department of Economics ( email )

8 Woodland Road
Bristol BS8 ITN
United Kingdom

University of Bristol - Leverhulme Centre for Market and Public Organisation (CMPO) ( email )

12 Priory Road
Bristol BS8 1TN
United Kingdom

Institute for Fiscal Studies (IFS) - Centre for Microdata Methods and Practice

7 Ridgmount Street
London WC1E 7AE, WC1E 7 AE
United Kingdom

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